Punjab National Bank hit by Rs 11,000-crore fraud

A set of fraudulent transactions linked to billionaire jeweller Nirav Modi  reported by PNB, have now swelled to nearly Rs 11,400 crore.

On 14 February, state-owned Punjab National Bank (PNB) disclosed that it has discovered $ 1.8-billion (around Rs 11,400 crore) worth of fraudulent transactions at one of its Mumbai branches. In a complaint to the Central Bureau of Investigation, the lender named firms and people associated with billionaire jeweller Nirav Modi to connive with some of its officials to defraud the bank using bank guarantees

Who is named in the complaint? 

In its complaint, PNB has alleged that the fraud was led by Modi, a jeweller who’s No. 85 on Forbes’s 2017 list of India’s richest people. It is alleged that Modi was helped by a former PNB employee, Gokulnath Shetty, who was a deputy general manager in the foreign-exchange department in one of its branches in Mumbai. 

 What is the fraud about?

Two PNB employees sent unauthorised letters of undertakings (LoUs), essentially bank guarantees, to foreign branches of Indian lenders, on behalf of firms related to Nirav Modi and the Gitanjali Group. The LoUs basically told these other lenders: Lend money to Nirav Modi firms so that they can pay for their imports. If they don’t pay up, we will make good this payment.

What’s irregular about this?

In the normal course, when an importer goes to a bank to ask for such a guarantee, one of two things happens. One, the bank asks him for collateral before it gives a guarantee. This collateral could be property in his name, or a fixed deposit with the bank. Second, the bank sanctions a credit limit. That means it will evaluate the importer (just like a lender asks for your income proof and address proof before giving you a home loan) and says he is good to be given a loan for a certain amount; but no money actually changes hands.

In the PNB fraud case, the bank employees had sent these guarantees in the absence of credit limits and collateral security (in Modi’s case). Secondly, they didn’t make an entry in the bank’s core banking system – the software used to support a bank’s most common transactions, which also acts as a record keeper. In some cases, they made a corresponding entry in the core banking system, but for lower amounts.

Why would an importer use this convoluted method to raise money?

There are multiple reasons. For one, he has raised money in foreign currency to pay for goods bought abroad. Second, the cost of such foreign currency borrowings abroad is typically lower.

Why would an importer use this convoluted method to raise guarantee?

When the foreign bank or branch receives the guarantee, for example from PNB, it will give a loan to the importer. That means it will deposit money either in the account of the supplier who’s selling goods to the importer, or in PNB’s account held with it. The tenure of this loan varies from ninety days up to even five years for capital goods. The money gets used to settle the payment for imports. Then, when the term of the loan is up and the importer makes money from reselling the goods he imported, he will pay this sum to PNB with interest. PNB in turn will settle with the bill.

What happened in this case?

According to the CBI FIR, in many transactions, the money raised through this guarantees was not used to make payments for imports. But it was used to settle earlier loans taken. In effect, every time a Nirav Modi related firm asked for a bank guarantee it was to settle an older loan taken through a previous bank guarantee. Thus, the amounts piled up to around Rs 11,400 crore.

How was this detected?

According to the FIR, two junior employees of PNB had been sending these unauthorised guarantees for seven years. Then one of them retired. In January, when representatives of Modi firms asked for a fresh guarantee, the new PNB employee in that position asked for collateral security. On being told that this was never asked for in the past, the bank started investigating and found hundreds of guarantees relating to these firms.

You mean no one thought to check this earlier?

PNB’s defense is that the SWIFT messaging system used to send these guarantees was not linked to its core banking system. SWIFT stands for the Society for Worldwide Interbank Financial Telecommunication. Experts also said that a concurrent audit — an audit of transactions done as they happen by internal or external auditors — should have caught this. Won’t someone look at the money deposited in PNB’s overseas accounts? Won’t someone reconcile SWIFT messages with the money that was transmitted through PNB’s systems? The jury is out on how many people at different executive levels are involved — either directly or because of negligence.